October 11, 2016 | Leave a Comment
Professor Raphael Schoenle presented his latest research “The Propagation of Monetary Policy Shocks in a Heterogeneous Production Economy” at the bi-annual Federal Reserve Bank of Cleveland Inflation Conference on September 29-30. His research investigates how monetary policy shocks affect real economic activity when changing the conventional modeling of the economy. In particular, his paper studies the interaction of three kinds of heterogeneity not usually present in models of the monetary policy-makers: heterogeneity in customer-supplier relationships, heterogeneity of heavy-tailed frequencies of price changes and heterogeneity in the size of sectors.
On the theoretical side, one of the key findings is that it matters if the policy-maker chooses to work with a model with only a few sectors, and with a detailed model of many sectors. In a calibrated model, for example, a less disaggregated model of the economy with only 8 sectors understates the real effects of monetary policy by 20% relative to a 58-sector economy and by 34% relative to a more realistic 350-sector economy. The initial response of inflation – to which policy-makers pay a lot of attention – is similar across these calibrations, and thus does not provide sufficient information about where the economy is going. The paper also shows which of the heterogeneities matter the most quantitatively – it is the frequency of price changes – , which may prove useful for policy-makers.